Sony’s Unwanted Genre: Suspense

NOWHERE is the opulence of Old Hollywood more palpable than on the Sony Pictures lot in Culver City. Arching just inside the front gate is an eight-story rainbow. This grand $1.6 million sculpture, a condition of a lot expansion, rose last year and became a symbolic link between past glories — “The Wizard of Oz” was filmed here — and current ones. Years of cutbacks have taken the shine off many studios, which now look like glorified factories. But Sony has preserved its lot as a perfect little movieland town: executive suites overflow with orchids, and cafes border a new park where employees sip lattes and stretch on the grass.

The mood extends beyond the walls of the 44 1/2-acre lot. Each year, Sony rents out the entire Ritz-Carlton Cancún Resort for an international press junket. Day after day, the studio flies in stars and hosts parties.

“What I love about Sony,” said Matthew Tolmach, a former executive at the studio and now a producer based on its lot, “is that they still love movies, and they are incredibly aggressive about making all kinds of them.” He added: “It’s why I want to live there.”

While competitors like Paramount, Disney and even Warner Brothers have gone through ferocious consolidation — all focusing more narrowly on blockbuster-style fantasies and superhero movies — Sony has been slower to give up the industry’s broad prerogatives. Its ambitions still stretch from R-rated romps to “The Amazing Spider-Man” to tiny foreign films to African-American comedies to Oscar-caliber dramas. That requires making a home not just for Mr. Tolmach but also for an extensive family of filmmakers and stars.

But in true Hollywood style, the Sony picture is not quite what it seems.

The truth is that Sony finds itself at a troubled crossroads. Its go-to stars — Adam Sandler and Will Smith — are now a generation older than the prime film-going audience. And its steep production and infrastructure costs burden Sony with one of Hollywood’s worst profit margins. Sony’s entertainment unit had an operating margin of 6.5 percent in its last fiscal year; the figures at Warner Brothers, Disney, Paramount and 20th Century Fox were all higher.

It is extremely hard to compare studios, analysts warn. Some make only movies, while others, like Sony, also make television shows. Financing arrangements and accounting vary. Sony does not divulge how much of its profit comes from movies and how much comes from its fast-growing television business.

In its last fiscal year, the studio reported operating income of $509 million, up 40 percent from a year before. That result looks fantastic until you consider that roughly 65 percent of the total, analysts estimate, came from a relatively small television arm that includes shows like “Wheel of Fortune” and “Breaking Bad” as well as overseas cable channels. Analysts complain that the giant movie side is holding back profitability.

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Sony's newest film include, clockwise from top left, “This Is the End,” a comedy with James Franco, Jonah Hill, Craig Robinson, Seth Rogen, Jay Baruchel and Danny McBride; “The Smurfs 2,” with the voices of Katy Perry and the late Jonathan Winters; “After Earth,” with Will Smith and his son, Jaden; and “Elysium,” starring Matt Damon.Credit
Clockwise from top left, Suzanne Hanover/Columbia Pictures; Sony Pictures Animation/Columbia Pictures; Columbia Pictures; Kimberley French/TriStar Pictures

The movie unit has also lost the man long seen as its protector inside Sony, the far-flung Japanese electronics behemoth. That man is Howard Stringer, who was Sony’s chief executive for seven years. Last year, he turned over the Sony helm to Kazuo Hirai. Mr. Stringer will retire as chairman next month.

But the truly startling plot twist came on Tuesday. Daniel S. Loeb, the activist hedge fund manager known for successfully engineering a shake-up at Yahoo, told Mr. Hirai in a letter that his Third Point investment fund had become Sony’s largest shareholder, with a 6.5 percent stake. With that announcement, Mr. Loeb proposed breathtaking changes at the company, including a spin-off of up to 20 percent of its studio and other entertainment holdings.

Overnight, Michael M. Lynton, the C.E.O. of both Sony Pictures and Sony Entertainment, and Amy Pascal, co-chairwoman of Sony Pictures, found themselves under a kind of weight rarely felt in Hollywood since the 1980s, when corporate raiders and high-yield bond peddlers like Saul Steinberg, the Bass brothers and Michael Milken delved into studios, looking for hidden value.

“The entertainment businesses are important contributors to Sony’s growth and are not for sale,” Sony asserted in response to Mr. Loeb. “We look forward to continuing constructive dialogue with our shareholders as we pursue our strategy.”

A spokeswoman for Mr. Lynton and Ms. Pascal said they had no comment. Several days before the disclosure of Mr. Loeb’s letter — in response to questions about the studio’s performance and its movie release lineup — Steve Elzer, a Sony spokesman, wrote in an e-mail, “We have been strong and steady not just for a year, but for longer than a decade.” He added, “We couldn’t be more confident in our slate this summer and through the year.”

The scrutiny from Mr. Loeb comes as Sony, with movie brands that include Columbia, Screen Gems and TriStar, prepares to pull off a death-defying summer. Starting May 31, the studio, which hasn’t released a major movie since December, will roll out seven significant films in a span of 14 weeks, more than any rival.

An ensemble comedy like “Grown Ups 2,” starring Chris Rock, Kevin James, David Spade and Mr. Sandler, is a relatively safe box-office bet. An inexpensive comedy, “This Is the End,” about celebrities facing an apocalypse while partying at James Franco’s house, is generating substantial advance buzz. And a concert film about the boy band One Direction that cost almost nothing to make is expected to be popular with teenage girls and to deliver fat profits.

But there are ominous clouds as well. “After Earth,” a dark science-fiction tale starring Jaden Smith and his father, Will, is attracting solid attention from moviegoers ahead of its May 31 arrival, according to prerelease tracking surveys. But people who have seen it tend to grimace when asked if it’s any good. The movie was directed by M. Night Shyamalan, whose box-office history is bumpy at best.

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A $1.6 million, eight-story rainbow built at Sony’s studios in Culver City, Calif., was meant to link Sony with the old Hollywood movies like “The Wizard of Oz” that were filmed there.Credit
J. Emilio Flores for The New York Times

“Elysium,” a science-fiction drama starring Matt Damon and Jodie Foster and directed by Neill Blomkamp, comes at the end of a crowded summer. (Sony contends that this will actually work in its favor, as happened with Mr. Blomkamp’s “District 9” in 2009.) And “The Smurfs 2,” while expected to be big overseas, is one of no less than six computer-animated movies in North American theaters between June and August, up from three last year.

Mr. Lynton acknowledged at a conference this month that the competition would be brutal. Though most Hollywood studios have radically cut their release schedules, an unusually large number of major films are crammed into the coming three months: 22, up from 15 in the same period last year. “It’s a scary summer,” he said, “because it’s like walking through the Himalayas when I see the gigantic movies coming in.” And for Sony, the competition is coming at just the wrong time.

SONY faces the same challenges as every studio. Costs keep rising as DVD sales weaken. Word-of-mouth on Twitter and Facebook makes attracting an audience on movie opening weekends harder; if ticket buyers rip apart a movie online on a Friday, fewer people show up on Saturday.

But after Mr. Loeb’s letter went public, Sony shares soared 10 percent, and analysts cheered. “Bravo Loeb,” said Harold L. Vogel, an analyst and the author of the book “Entertainment Industry Economics,” adding, “It might be the best thing to happen to Sony in at least 20 years.”

Mr. Loeb’s suggestion was viewed as a long-overdue call to unlink two disparate businesses — electronics and entertainment — and to cut studio spending. “There is an inherent logic to what Loeb is saying,” said Michael Nathanson, an analyst at Nomura, a Tokyo-based financial services company. “All of us have been pressuring the companies we cover to put less capital into the film business.”

Sony, while still rooted in Old Hollywood, has nonetheless started to change. In the fall, Mr. Lynton and Ms. Pascal started broad cost cuts, trimming spending on development (scripts, literary materials), laying off home-entertainment employees, winnowing spending on marketing and downsizing the studio’s mail room. “We combed through every single division, right down to where things are stored,” said one Sony executive who spoke on condition of anonymity to avoid conflict with the studio’s public stance.

Studio executives say the summer movies reflect smarter spending. “After Earth” cost about $135 million to make, while “Elysium,” jointly produced and financed with Media Rights Capital, cost about $115 million. The budget for the thriller “White House Down” was roughly $150 million. Those expenditures may sound astronomical to the uninitiated, but summer movies now routinely cost $200 million or more. (Examples this year include “The Lone Ranger” from Disney and “Man of Steel” from Warner Bros.)“They understand that business has changed, it’s harder to make a profit, and they are being incredibly responsible,” Mr. Tolmach said.

But there is also an air of defiance at Sony, where executives contend that their moviemaking strategy is perfectly attuned to the marketplace. As rivals have narrowed their offerings — betting on a handful of big-risk, big-reward (or big-loss) titles — Sony is the last studio to consistently deliver hits across genres, from family movies to indies, from minority comedies to global blockbusters. “We may not look like the rest of Hollywood,” said another Sony executive who spoke on condition of anonymity, “but that doesn’t mean this isn’t a painstakingly thought-through strategy and a profitable one.”

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Amy Pascal of Sony Pictures.Credit
Valerie Macon/Getty Images

Put another way, he seems to be saying: We won the box-office battle last year, and we did it mostly with doubles and triples. Do you have any idea how hard that is?

SONY’S $4.4 billion in ticket sales last year was impressive, but shareholders care about profit margins.

The movie studio’s bottom line didn’t look better for several reasons. For one thing, about 75 percent of the “Skyfall” revenue went to Metro-Goldwyn-Mayer after James Bond rights holders took their cut. Revenue from some DVD titles — “Zero Dark Thirty,” for instance — will come in the next fiscal year. But more important, “Men in Black 3” cost an arm and a leg, and when you’re making this many movies some are bound to miss: Sony’s hits were offset by the major flops “Total Recall” and Mr. Sandler’s “That’s My Boy.”

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Until now, the studio has not been under much outside pressure to change. As C.E.O. of the parent, Mr. Stringer had bigger problems — a deeply troubled electronics business, the Japan earthquake and tsunami — and largely left the studio alone; its overall margins were poor compared with some competitors, but it was at least making money. His successor, Mr. Hirai, has taken a more serious approach to the studio, but Sony executives say he still speaks to Mr. Lynton only about once every three weeks for an hour.

Mr. Loeb, however, presents a bigger threat. In his critique of the entertainment unit’s profitability, he stopped short of demanding new leaders, but just barely. “We believe the underperformance would be remedied by a more disciplined management approach,” his letter said.

He specifically complained that the entertainment unit at Sony have been far less profitable than those of big rivals. He said a better-focused entertainment operation, in which studio managers’ pay could be linked to their newly public shares, might quickly increase its cash flow by up to 50 percent.

Precise comparisons among studios are difficult; operations vary, and large media companies typically provide very limited breakdowns of their units’ profitability. But a report in March by Mr. Nathanson of Nomura noted that profit margins at Hollywood’s biggest movie operations had stabilized in recent years at roughly 11 percent — matching the most recent peak in 2007 — as companies cut costs and the number of film releases and focused on movies that play to a growing global market.

The Nomura report did not include specific estimates for Sony’s film division, but Mr. Nathanson highlighted some surprising differences among the studios. Sony Pictures, by his count, released 35 films in 2012 — or 46 percent more than either Warner or Universal, which jointly ranked second with 24 when all of their specialty film units were included. While Disney has cut its picture count 54 percent since 2006, and both Fox and Warner Brothers reduced output more than 40 percent, Sony has cut its schedule only 21 percent. It has now passed Warner Brothers as Hollywood’s most prolific studio.

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Daniel S. Loeb is the activist investor who is intent on spinning off part of Sony’s entertainment unit.Credit
Steve Marcus/Reuters

At Viacom, which owns Paramount, the fiscal year ended Sept. 30 offered a reminder that movie studios often bolster profitability by doing less, and spending less — and allowing income from older films to accrue.Viacom’s film revenue fell 19 percent last year, as it cut back on its release schedule and reined in spending. But the film profit margin jumped to about 6.7 percent in 2012 — even though Paramount ranked seventh at the domestic box office — from 5.8 percent in 2011, when it was No. 1 in ticket sales. “The mantra of most every studio has been shrink to profit, shrink to profit,” Mr. Nathanson said.

ON Sony’s Culver City lot, perhaps the most unnerving element of Mr. Loeb’s critique is that it threatens to disrupt the remarkable stability of Sony’s management. For decades, that team has cultivated internal ties and has often promoted from within.

Ms. Pascal has run the film operation for almost 17 years, while Mr. Lynton has been the studio’s top officer since 2004. Steve Mosko, president of Sony Pictures Television, has been at the studio 21 years. Sony Pictures Classics, the art house division that puts out about 14 inexpensive films annually, has been run by Michael Barker and Tom Bernard for 21 years, and they recently extended their contracts into 2017.

Stability became a core value at the studio in the late 1990s, after a long period of dislocation. During the first decade that Sony owned the studio, highflying mangers like Jon Peters, Peter Guber and Mark Canton raised the company’s profile but delivered uneven performance and created confusion with distracting hirings and firings. (Sony built Sony Pictures around Columbia Pictures Entertainment, which it acquired in 1989 for $3.4 billion and about $1.6 billion in assumed debt.)

Ms. Pascal, who was a production executive at Sony in those tumultuous years, left for a time to run Turner Pictures but returned under a new chairman, John Calley. She established a regime known for its creative and long-lasting relationships. Often, ties with stars like Mr. Sandler and Mr. Smith delivered a string of hits and created a general air of prosperity.

Given those relationships, a Sony management shake-up might provoke rebellion among some of the most respected and powerful filmmakers in Hollywood.

“They’re the strongest, smartest and most well-loved and respected studio management in the industry,” said Scott Rudin, the Oscar-winning producer. Mr. Rudin is behind “Captain Phillips,” a serious, ambitious film set for release by Sony on Oct. 11. It stars Tom Hanks as Capt. Richard Phillips, whose cargo ship was hijacked by Somali pirates in 2009.

“Michael and Amy have a massive amount of shrewdness, experience and institutional movie business knowledge and an almost unquantifiable reservoir of talent and filmmaker loyalty,” Mr. Rudin continued. “And, as such, they are likely better positioned to run a sleek, modern movie company than any of their competitors.”

But, as Ms. Pascal noted in a 2011 interview with The New York Times, a series of hits, even among friends, inevitably leads to escalating pay demands — and, ultimately, the kind of profit squeeze that is now troubling Mr. Loeb. And in the film world, stable relationships can set off the occasional disaster.

Sony weathered one of those in 2010, with “How Do You Know,” which had a reported production budget of about $120 million — huge for a romance film. Starring Reese Witherspoon, it was written and directed by James L. Brooks, who was behind hits like “As Good as It Gets.” But it generated just $49 million in worldwide ticket sales. Mr. Brooks, who had long been close to Ms. Pascal, has since left the studio.

As summer approaches and Sony turns to mainstays like Mr. Smith for “After Earth,” Seth Rogen and Jonah Hill for “This Is the End” and Channing Tatum for “White House Down,” the studio will face the usual questions about whether its favorite stars can generate big-enough profits. And this time, the person providing the answer may be Mr. Loeb.

A version of this article appears in print on May 19, 2013, on Page BU1 of the New York edition with the headline: Sony’s Unwanted Genre: Suspense. Order Reprints|Today's Paper|Subscribe